UK: To hedge or not to hedge? - When should a company consider currency risk protection?

UK: To hedge or not to hedge? - When should a company consider currency risk protection? - Figures from Barclays Bank suggest that less than half of all exporters take any steps to protect themselves against exchange rate fluctuations.

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Last Updated: 31 Aug 2010

Figures from Barclays Bank suggest that less than half of all exporters take any steps to protect themselves against exchange rate fluctuations.

Sterling's appreciation over the last financial year has emphasised the risk that unprotected companies are facing by not taking such steps. Smaller exporters in particular ignore the option of hedging a transaction (through a forward exchange contract that moves inversely with any change in the deal value), seeing it as an unnecessary and expensive complication to cross-border deals. So when is hedging a worthwhile option?

Stephen Davies, economic research executive at the Institute of Directors' policy unit, firmly advocates hedging in most circumstances. 'Companies of all sorts should hedge unless the amount of their exports is such a small percentage of turnover that the risk is minimal to the overall business,' he says. The British Bankers' Association (BBA) agrees. 'Companies should always look at ways of minimising the risk of exporting,' says Mike Young, assistant director of small business finance at the BBA.

Some small business representatives, however, still regard hedging as an activity for others. A spokesman for the Federation of Small Businesses says, rather bluntly: 'Hedging is for the larger companies. Small companies don't get involved.' There are certainly alternative forms of protection. Barclays' research found that the majority of companies protecting themselves against currency exposure did so by insisting on payment in sterling, while just 28% used forward exchange contracts. But while sterling settlement avoids currency risk, it may also lose trade. Almost one in five exporters gets around the problem by using foreign currency accounts, but these are only really appropriate for companies trading regularly in a particular country.

Successful hedging requires the same structured approach as many other management decisions. 'It is extremely important that senior management are aware of the level of the risk the company faces, and approve the policies and controls surrounding the risk management programme,' says Richard Raeburn, partner responsible for treasury consulting at KPMG. Where sums are significant, Raeburn advises companies to shop around for quotes for different hedging instruments from several sources.

Barclays is sensing a growing interest from smaller exporters in currency risk protection. In March this year it opened four centres offering advice to corporate clients on issues that concern them, including currency risk. Martin Sutch, senior treasury manager with Barclays, says that wise businessmen do not leave their profits on international deals to chance. Young believes that companies should ask their bank managers, or Business Links, for advice. Even if the branch manager can't give the specialist expertise directly, he or she will be able to find someone who can. 'Bank managers are like GPs,' he says. 'They may simply point you towards another expert.'.

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